Europe: Slowing And Will Get Slower, But Central Banks Act

First it was Standard & Poor's, then a fleet of private economists; finally it was the IMF delivering the bad news that everyone knows: developed Europe is in trouble and the various economies are sliding towards a new recession.

At the end of a week that was dominated by the financial crisis over Greece and the health of the eurozone's banks, the forecasts made gloomy reading.

But not at the European Central Bank which left its key interest rate unchanged in a surprise decision marking the last meeting of departing head, Jean Claude Trichet.

But the ECB did move to help the eurozone banks by announcing a further extension of its policy of providing unlimited liquidity, saying it would include 12-month loans this month and 13-month loans from December that will bridge two crucial year-end periods when banks are keen to show strong financial figures.

It also unveiled a 40 billion euro program to buy so-called covered bonds - ultra safe investments issued by banks. In London the Bank Of England added 75 billion pounds to its 200 billion pounds of quantitative easing to try and help a sagging UK economy.

The central bank will buy the extra Government bonds over the next four months.

It singled out slowing economies in Europe, the sliding domestic economy, especially consumer demand (See below) and the growing strains in bank funding.

Both moves helped stockmarkets in London, Germany, Paris and Italy rise by well over 3%, with US markets up more than 1%.

That was after Asian markets, led by Australia and Hong Kong (two of the biggest fallers) charged higher in a bullish day's trading on Thursday.

The Europeans, led by Germany and now talking about providing financial help to banks to handle, in the last resort, mind you, to handle the impact of sovereign debt write-downs (Greece certainly, Italy and Spain and Portugal?).

And, with the US economy stumbling along at stalling speed, much of the global economy faces a stuttering end to 2011 and a hesitant start to 2012.

Europe, rather developed Europe, which is really the countries of the eurozone plus the UK, are the basket cases of the developed world, a situation that will endure for most, if not all of 2012.

The UK is especially interesting: it seems to have slowed more sharply than other parts of the region (excluding Greece and other bailout countries).

The Conservative/Lib Dem government of Prime Minister David Cameron cuts spending to rebalance the budget and reduce debt over the next five years, it is faced with the unpleasant fact that the economy has all but stalled.

The country's Office of National Statistics says gross domestic product grew by just 0.1% in the second quarter, compared to the first three months of the year, down from a previous estimate of 0.2%.

And, GDP growth in the first quarter was revised down to 0.4% from 0.5%.

Given the 0.5% contraction in the last quarter of 2010, the new figures revealed that the economy has flatlined for the past nine months.

And the Office has revised the size of the slump in 2008-09 to 7.1% between March 2008 and its end in June 2009, making the recession deeper than the previous estimate of 6.4%, but three months shorter than previously estimated.

And the revisions also show that the UK economy is still smaller than it was before the GFC hit: GDP was 4.4% smaller than its peak in the March quarter in 2008.

The Office said weaker growth, particularly in the second quarter, reflects a range of pressures, including continued falls in real wage growth, an uncertain labour market, relatively high inflation rates, and volatility and weakness in financial markets.

A feature of the latest UK figures is the sharp slowdown in consumption of essentials, such as foodstuffs.

In fact UK household spending on essentials has fallen to its lowest level in almost a decade and the amount they spent on groceries, petrol and other day-to-day items has shrunk for a whole year, official figures showed.

Total spending on food was £18.6 billion, the lowest quarterly figure since the spring of 2002 with some of the difference was due to shoppers swapping premium brands for cheaper products and own-brand lines. Petrol sales and spending on other forms of transport slumped to a level last seen in early 2000.

And more of the same lies ahead as consumers and the Government cut back.

In its reaffirmation of the UK's AAA credit rating this week, Moody's said "we expect the U.K. will post relatively modest growth rates of around 1.8% on average in 2011-2014, lower than the 2.5% forecast by the Office for Budget Responsibility.

That could very well mean that the UK economy will not regain that March, 2008 peak until 2013-14.

The latest IMF forecasts showed a sharp slowdown in economic activity across Europe since the second quarter.

The IMF is now expecting growth of 2.3% this year - down from 2.4% last year - and is looking for just 1.8% growth in 2012, with much of that coming from what the Funds calls emerging Europe, where growth is forecast to rise slightly this year to 4.4% from 4.3%.

The IMF said in its regional outlook for Europe:

"Following a strong showing in early 2011, the economies across Europe now face the prospect of a pronounced slowdown, as global growth has softened, risk aversion has risen, and strains in Europe's sovereign debt and financial markets have deepened.

"Downside risks are significant, and a further deepening of the euro area crisis would affect not only advanced Europe, but also emerging Europe, given its tight economic and financial ties.

"The policy stance in advanced Europe will need to be adapted to reflect the weakening and tense outlook, financial systems strengthened further, and a consistent, cohesive, and cooperative approach to monetary union adopted by all euro area stakeholders.

"The cross-country experience in the past decade in Europe shows the difference that good policies can make in boosting growth, with some European countries having grown rapidly while others have stagnated.

"Escaping low-growth traps, through broad-based reforms that address macroeconomic imbalances and country-specific structural rigidities, is possible," the Fund said optimistically.

As if to underline the problems, retail sales volumes across the 17-nation euro zone fell by 0.3% in August, according to the European Union statistics agency Eurostat.

Compared to August 2010, sales fell by 1%. Economists had forecast a 0.2% monthly decline and a 0.7% year-on-year fall. The figures include the sharp and unexpected 2.9% drop in Germany.

The IMF further warned that "Developments through mid-2011 attest to a lack of vigour in the global economic recovery and continued fragilities of real developments to financial market turmoil."

And ratings group, Standard & Poor's was also gloomy in its last outlook for Europe, published earlier in the week.

In the report titled "The Spectre Of A Double Dip In Europe Looms Larger", S&P forecasted GDP growth in the eurozone at 1.1% next year, compared with 1.5% in a forecast made just five weeks ago.

For Britain, the rating group said it expected GDP to grow 1.7% in 2012, slightly below 1.8% projection in August.

As a result of recent sell off and rise in volatility, S&P said it had for the second time in five weeks, revised downward its projections for economic growth in the region for the next five quarters.

"We still don't expect a genuine double dip to occur in the eurozone as a whole or in the UK, but we recognize that the probability of another recession in western Europe has continued to grow," said Jean-Michel Six, Standard & Poor's chief economist for Europe.

"We now estimate the probability of a new recession in western Europe next year at about 40 percent, although in our baseline forecast we continue to anticipate sluggish and unevenly distributed growth in the coming five quarters," said the economist.

Business surveys from August and September point to a fresh deterioration in the business climate, visible not only in those economies typically most exposed to the sovereign debt crisis -- such as Portugal, Spain and Ireland -- but also in the core countries of the eurozone and in Britain.

This reflects not just the slowdown in the manufacturing and service sectors across Europe since the beginning of the second quarter, but also sharply increased financial market pressures on European banks, the report said.

In fact the surveys of euro manufacturing released at the start of the week, were gloomy (But the UK showed a surprise rise), while the surveys of services activity were a little more optimistic.

But buried in the IMF forecasts is the real reason for all the current angst: Greece.

The fund sees the Greek economy contracting by 5% this year, but an improvement in 2012 to a contraction of 2%.

That means future spending and budgets will come under even further pressure if the Greek economy doesn't meet these growth projections. Deeper growth in 2012 will force more pressure for cuts deeper than the ones outlined this week and to come in the next month.

And wile the pressure remains on Greece's economy, it also remains on its banks and the banks in the rest of Europe, hence the upsurge in talk about help for banks.

Greece needs growth, not only for itself and the rising level of unemployed, but for banks holding its debts in the eurozone.

Italy's downgrade by Moody's midweek hasn't helped confidence, even if it was catch up to the S&P cut last month.

Moody's lowered Italy's rating three levels to A2 from Aa2, with a negative outlook.

The action comes after Standard & Poor's downgraded Italy on September 20 for the first time in five years. Italy was last cut by Moody's in May 1993.

"The fragile market sentiment that continues to surround euro area sovereigns with high levels of debt implies materially increased financing costs and funding risks for Italy," Moody's said in the statement.

"Although future policy actions within the euro area could reduce investors' concerns and stabilize funding markets, the opposite is also increasingly possible."

Italy joined Spain, Ireland, Portugal, Cyprus and Greece as euro-region countries whose credit rating has been cut this year.

Italy's debt of about 120% of gross domestic product is second in the region only to Greece. But the budget deficit is low compared to Greece's.

And this weekend sees the bailout and dismemberment of Dexia, the Belgian-French bank which became a focal point for a bit of nervousness this week.

The bank's board is due to meet Saturday night, our time, to vote on the split which will see a good bank created, asset sales announced and the dud loans to Greece and other countries and other weak deals shoved into a bad bank.

Reuters says that Belgium and France were finalising the rescue overnight Thursday so the board can vote.

The bank's Luxembourg unit is to be sold and Belgium looks like nationalising Dexia's businesses in that country.

There is some opposition in France which is resisting pressures to help its own banks for fear of putting pressure on its AAA credit raging.

It wants help to Dexia to be considered as a one off and not a precedent.

Reuters says that in Belgium, the 589 cities, towns and districts which jointly hold a 14.1% stake in Dexia could face an end to dividends and a capital loss that could bring down their holding cooperative.

Under the rescue, the lender to thousands of French and Belgian towns will see its French municipal funding arm broken off and combined with French state bank Caisse des Depots and Banque Postale, the banking arm of France's post office.